Real-Life Math
Investment bankers help clients buy and sell businesses, arrange
financing and take their companies public. On your way to becoming an investment
banker, you'll likely start out as an analyst. Eventually, you may strive
to become a director, partner or CEO. But for now you'll do a lot of
nuts and bolts work for the people above you. This will involve math.
"Math
is very important in finance," says Pamela Peterson. She is a professor of
finance.
"I didn't appreciate this as an undergraduate student,
but in graduate school and as a professor I found that I had to continually
improve my math skills if I was going to keep up with the field. In fact,
I'm still learning."
During your first few months working for
a consulting firm under the team specializing in small businesses, your boss
instructs you to perform a company valuation for a client who wishes to sell
his publishing company.
Arriving at a fair market value requires judgment,
number crunching and one or more valuation techniques.
In this case,
you will use the excess earning method. Any potential buyer will want to know
that they will get a good return on the investment. As a seller,
your client must show the buyer some figures to back the claim of profitability.
Mr.
Smith of Enrichment Publishing has tangible assets (books and equipment) worth
$225,000. To figure out the return on those assets, you look up an industry
standard and find it to be 17 percent.
Smith also pays himself a salary.
Minus the salary, the company's earnings are $92,000. To get the estimated
total value, you begin by figuring the return on the tangible assets.
$225,000
x 0.17 (industry standard) = $38,250
The remaining
$53,750 from the $92,000 are the excess earnings. To figure the value of the
excess earnings, the figure is multiplied by a factor that you will arrive
at using your judgment. In this case, it will be 2.5.
Here's what
we have so far:
- Tangible assets = $225,000
- Total earnings = $92,000
- Tangible asset earnings = $38,250
- Excess earnings = $53,750
- Value of excess earnings = ?
- Estimated total value = ?
What numbers should replace the question marks in numbers 5 and 6?